Total Cost Analysis By Brandon Ostler

Agenda Total Cost Analysis defined Nuts and Bolts Brainstorming Exercise Benefits of Total Cost Analysis How it works Real world example Exercise Summary Readings List

What is Total Cost Analysis? Total cost analysis (total cost of ownership) is the sum of the costs related to the acquisition and use of materials, products, or services.

The Nuts and Bolts Three main components –Acquisition costs –Ownership costs –Post-ownership costs

Common Acquisition Costs Purchase Price Planning Costs Taxes Financing Costs

Common Ownership Costs Downtime Costs Risk Costs Conversion Costs Non-Value-Added Costs

Common Post-Ownership Costs Environmental Costs Warranty Costs Product Liability Costs Customer Dissatisfaction Costs

The Big Picture Acquisition CostsOwnership Costs Post-Ownership Costs Asset Cost Asset Life Cycle

Quick Practice Determine if the following are acquisition, ownership, or post-ownership costs: 1.Tariffs 2.Recalled products 3.Lost Sales 4.Frequently moving Work-in-process inventory 5.Contract Determination

Brainstorming Exercise Why would your organization want to conduct a Total Cost Analysis?

Who Benefits? Your firm –Service Providers –Retailers –Manufacturers The end customer

How It Works 1.Find each component cost 2.Sum the cost of the three components 3.When purchasing, compare total cost from potential suppliers 4.If for a process, look for ways to reduce total cost

Real World Example ABC, a retail store, is deciding whether they should implement a new billing system or upgrade their current system. Both systems are expected to last 3 years and both will need to be un-installed at the end of the third year. What should they do?

Real World Example New Billing SystemYear 0Year 1Year 2Year 3Total Acquisition Costs$4,688$412$0 $5,100 Hardware$1,067 Initial Software$2,000 Initial Training$823 Transition Costs$798$412 $1,210 Ownership Costs$0$1,713$1,842$1,379$4,934 Subsequent Upgrades $1,000 $500$2,500 Subsequent Training $214$213$149$576 Maintenance $101$220$330$651 Operations $398$409$400$1,207 Post-Ownership Costs$0 $1,500 Un-install system $1,500 Total Annual Costs$4,688$2,125$1,842$2,879$11,534

Real World Example Upgrade Current SystemYear 0Year 1Year 2Year 3Total Acquisition Costs$200$0$100$0$300 Hardware Upgrades$200$100$300 Initial Software $0 Initial Training $0 Transition Costs $0 Ownership Costs$0$2,152$2,792$3,130$8,074 Subsequent Upgrades $100 $150$350 Subsequent Training $42$45$38$125 Maintenance $532$1,078$1,567$3,177 Operations $1,478$1,569$1,375$4,422 Post-Ownership Costs$0 $1,367 Un-install system $1,367 Total Annual Costs$200$2,152$2,892$4,497$9,741

Real World Example New billing system total cost: $11,534,000 Upgrade current system total cost: $9,741,000 ABC should upgrade their current billing system as they will incur the lowest total cost.

Exercise Total Cost Analysis for Product XYZ Supplier ASupplier B Price Tag$300$150 After-sale allowances$50$75 Contract Negotiations$400$550 Operations$25$75 Inventory Carrying Cost$50$100 Customer Service$25$50 Which supplier has the lowest total cost? Which supplier has the highest cost of post-ownership?

Exercise Answer Supplier ASupplier B Acquisition Cost$700 Price Tag $300 $150 Contract Negotiations $400 $550 Ownership Cost$75$175 Operations $25 $75 Inv. Carrying Cost $50 $100 Post-Ownership Cost$75$125 After-sale allowances $50 $75 Customer Service $25 $50 TOTAL COST$850$1,000

Summary Total Cost Analysis: –Three main cost components –Can bring out the “hidden” costs. –Spotlight the potential cost problems before they become problems –Can be used to find cost savings

Readings List Steven M Bragg. Cost Reduction Analysis: Tools and Strategies. Wouters, M. et al. The Adoption Of Total Cost Of Ownership For Sourcing Decisions--A Structural Equations Analysis. Degraeve, D. et al. The use of total cost of ownership for strategic procurement: a company-wide management information system. Lisa M. Ellram. Total Cost Of Ownership; An Analysis Approach For Purchasing. David Burt, et al. Supply Management. Eighth edition. pp